Never before has the shadow of private equity loomed so large over companies listed on the London stock market.

'It is the sheer scale of what these firms are prepared to take on that has changed,' says Niall Paul, head of UK equities at Morley Fund Management.

Who would have believed that, in one month, Sainsbury's, Alliance Boots and Cadbury Schweppes would be in the sights of the private equity sector? Which company will be next on the shopping list? Unilever, the household goods and food group? Or perhaps privately owned BHS, the department store chain run by Philip Green?

The private equity phenomenon is sweeping the world. Firms have become bigger and more successful, emboldening them to target companies that would have been too largein the past. In the thick of the boom is KKR, the private equity firm that epitomises the power and aggressive instincts of the industry.

It was KKR that pulled off one of the biggest leveraged buyouts on Wall Street in the late 1980s when it acquired RJR Nabisco, the tobacco and food conglomerate, for $25bn. Now it is in the bidding consortium for Sainsbury's and is expected to bid again for Alliance Boots after its initial £10bn offer was rejected by the board last week.

The struggle for control of Nabisco became the subject of a best-selling book called Barbarians at the Gate. It was the definitive account of the takeover, but also offered a social history of America during the 1980s. It was a period whose values were caricatured and attacked in the film Wall Street.

A new era was dawning. The relatively staid world of dealmaking, dominated by the blue-chip bankers of JP Morgan, was giving way to one where financial engineers were coming to the fore. It was a world of leverage, break-up bids and the unbundling of conglomerates. Private equity played a prominent role in these developments, attracting talent from business and the top investment banks. No doubt, one of the attractions has been the lure of fat pay packets: the leaders of private equity earn millions (in some cases billions) by taking stakes in companies they acquire - holdings that can rocket in value.

Henry Kravis, one of the founders of KKR and a billionaire several times over, has been back in the news recently. Last year in the United States, he engineered the firm's $33bn takeover of HCA, the health provider. This was the biggest buyout of all time until it was overtaken soon afterwards by Blackstone's $39bn acquisition of Equity Office Properties, owner of US government buildings. (Blackstone last week broke ranks with its peers when it disclosed plans to float on the US stock market.)

KKR has never been very big in Britain, although not for lack of trying. It was in the running to buy supermarket chain Safeway three years ago but withdrew, claiming the company had become too expensive. Now Kravis, who is advised in the UK by Labour peer Lord Hollick, has another chance to make a splash on this side of the Atlantic by acquiring Alliance Boots, or Sainsbury's, or both.

Private equity hasn't always been so successful. Its fortunes declined when inflation soared during the first half of the 1990s and borrowing became prohibitively expensive. But in the wake of 11 September 2001, when central bankers slashed interest rates to ward off a global financial crisis, the industry made an astonishing comeback and has grown bigger than ever before - last year it notched up deals worth a record $700bn, twice as much as in 2005.

Thanks to rock-bottom interest rates, private equity firms can borrow to the hilt and exploit generous tax breaks to offset borrowing costs against corporation tax. Public companies are more risk-averse and less inclined to gear up their balance sheets in this way.

Private equity firms have become ever more ambitious. Simon Boadle of PricewaterhouseCoopers says we are witnessing a virtuous circle. He explains: 'Private equity has done well for its investors [including pension funds, investment banks, wealthy individuals and hedge funds], offering returns that are sometimes double what you can expect on the stock market. As a result, more and more investors want a piece of the action.'

He adds: 'Not long ago, private equity would raise a maximum of £2bn or £3bn for a single fund. Now, funds raised routinely hit between £5bn and £10bn, even £14bn.' Private equity is flush with cash and wants to invest in private companies as well as those quoted on the market.

A senior dealmaker at a major US investment bank says: 'In many instances, the public market is not willing to ascribe the same value to companies as private equity, which will pay a premium. That has the effect of propping up share prices, which rise in the hope of action from private equity.'

Another eighties comeback is the troublemaking activist investor. Step forward US corporate raider Nelson Peltz who has built up a 3 per cent stake in Cadbury Schweppes.

The company has been under strong pressure to split its confectionery business from its drinks business, which includes the brands Dr Pepper, 7Up and Canada Dry.

Within 48 hours, Cadbury's confirmed a split was on the cards. The most likely scenario is that the drinks business will be sold to private equity. Blackstone and Lion Capital are reported to have already expressed an interest. One analyst says: 'Splitting up businesses that could be sold is much easier when everyone knows private equity is out there with piles of cash, and willing to bid up the value of the assets. In simple terms, it's a question of demand exceeding supply.'

The Pru is another with a hedge fund breathing down its neck - it too could be broken up. Given that there was a 20-year gap between RJR Nabisco and the next-biggest deal - HCA last year - experts wonder if the current private equity boom is a cyclical event that will pass. If the answer is yes, it raises the question of what could bring it to an end.

There are several possibilities. One is that rising interest rates will snuff out the era of easy money that has been critically important for the bankrolling of so many private equity deals. Another is that the banks will impose a credit crunch to reduce their risks. They are already under pressure in the US, where there are worries about the exposure of some institutions to sub-prime lending (loans to borrowers whose creditworthiness is questionable).

Of course, the private equity firms themselves could bring the cycle to an end through their own exuberance. The Financial Services Authority, the chief City watchdog, has intimated that it is worried about the possibility of a default by a large private equity-backed company that could knock the confidence of lenders and the capital markets.

As one analyst remarks: 'If just one of these big ventures goes down, funding for private equity will dry up overnight. At that point, the party ends.'

Imperial strikes back

Private equity and foreign groups have acquired British companies worth tens of billions of pounds in recent years, but UK corporations have tended to shy away from big overseas deals after getting their fingers burnt during the dotcom boom.

Britain is favoured by foreign buyers because its market is more open than other European countries such as France or Germany.

Last week, however, Imperial Tobacco struck back with a proposed £8bn bid to acquire Altadis, its Franco-Spanish rival. It is several years since a major British company announced plans for a foreign foray of that size, although Vodafone bought a stake in Hutchison Essar, the Indian mobile operator for £5.8bn last month.

London-based shareholders have been reluctant to sanction large transactions by British groups because of memories of international deals that have gone disastrously wrong. Magazine publisher Emap, for instance, had to sell its US offshoot Petersen for a thumping loss four years ago, while Vodafone drew fire for overpaying for assets such as Mannesmann of Germany, acquired following a £100bn hostile bid in 2000.

Imperial Tobacco, headed by Gareth Davis, is eager to play a role in the final phase of the consolidation of the international tobacco industry which has seen the number of major players dwindle to a handful after a series of mega mergers during the last decade. Two weeks ago, Gallaher agreed to be taken over by Japan Tobacco in a bid that valued it at £7.5bn.